Expanding Government-backed Loan Programs Could Endanger Taxpayer Dollars

The U.S. Small Business Administration (SBA) finalized rules earlier this year changing regulations surrounding Small Business Lending Companies (SBLCs). Last week, the House Small Business Committee held a hearing examining these changes titled, “Taking More Risk: Examining the SBA’s Changes to the 7(a) Lending Program Part II.” These changes lift a moratorium on licensing new SBLCs which held the number of approved SBLCs at 14. Additionally, the new rules transition members of the Community Advantage Pilot Program started in 2011 to permanent 7(a) lenders. The hearing raised numerous bipartisan concerns with the timing of the departure of SBA Associate Administrator Patrick Kelley and heard from witnesses alarmed with the potential negative impacts of massive alterations to the 7(a) program.

The SBA administers the 7(a) and 504 loan programs via private lenders that provide loans to small businesses “that might not otherwise obtain financing on reasonable terms and conditions.” Loans under the 7(a) program are guaranteed by the SBA for between 75-85 percent of the loan amount. The changes to the current SBLC regulations would substantially loosen the criteria for lending and could put taxpayer dollars at risk by increasing the default rate in the 7(a) portfolio. When asked by members of the committee, several witnesses testified that these changes will result in more taxpayers dollars being used to backstop the increased portfolio risk. As part of a question on who will “be on the hook,” Ami Kassar, a private sector lending CEO, stated: “The taxpayers or the small businesses because it will levy heavier fees against them to continue the program.”

This program has long enjoyed strong bipartisan support, in part because of the long-standing clarity and limits in place. In 1982, the SBA put in place a moratorium on providing licenses to new SBLCs. Capped at 14, if a new SBLC wanted licensing they would have to purchase a license from an existing SBLC willing to sell. At the time, the SBA cited that the programs, administered solely by the SBA, would become too burdensome to maintain if expanded further. In 2011, the moratorium was circumvented with the creation of the Community Advantage (CA) Pilot Program. The CA program allowed several organizations that meet the definition of licensed SBLCs to provide mission-oriented loans focused on economic development.

Despite the previous worries of the SBA on the ability to properly administer these loan programs, the moratorium was recently lifted and the participants of the CA program were transitioned to permanent 7(a) lenders. The number of full-time 7(a) lenders is likely to increase substantially and the solution from the SBA to administrative strain is to decentralize oversight of the program.

One of the new rule changes allows lenders to “use appropriate and prudent generally acceptable commercial credit analysis process and procedures consistent with those used for their similarly-sized non-SBA guaranteed commercial loans.” While this certainly helps with the problems of overburdening the SBA, it also allows for considerably less stringent underwriting standards. Until now, fees from lenders and borrowers involved in the program have been enough to cover the minimal defaults that occurred. The expanded program and loosened restrictions could result in the need for taxpayer dollars to cover defaults on more risky loans. The SBA should heed the bipartisan concerns raised in this hearing and reverse these changes to preserve the stability of a longstanding program. Turning back from this unprecedented change will protect taxpayer dollars from risky loans during a broader environment of institutional financial risk.